With the uncertainty of today's market, guaranteed lifetime income options, or GLIOs, are emerging as a promising new way to help retiring employees protect their retirement income streams over a longer time horizon. EBA recently spoke with Ben Yahr, an actuarial adviser and part of Ernst & Young's Insurance and Actuarial Advisory Services practice, to find out more about GLIOs.
How about starting with a quick history lesson on how GLIOs were developed?
Sure. If you think about how target-date funds evolved in the DC marketplace following the Pension Protection Act, a lot of them became a qualified default investment alternative, or QDIA. Target-date funds provided a great way for participants to get professional asset allocation. But their intent wasn't to protect income. In many retirement plans there is the need for a way or a mechanism for pre-retirees to protect the income generation ability of their assets. After the financial crisis, this became a focus of the Department of Labor and the Treasury in 2010.
As a result of all this, there's a lot of buzz in the industry right now about these guaranteed lifetime income options as a way for plans to help participants protect their income generation ability even in adverse markets. There's a lot of interest in these types of solutions and how they can be implemented into plans.
How many GLIOs are there?
There are several different flavors. One is a guaranteed lifetime withdrawal benefit, in which, regardless of what happens with the participant's account value, there's a base of income that's guaranteed. Then there's a withdrawal percent that gets applied to that income base.
As long as a participant takes out less than the withdrawal percentage times that income base every year after they reach the designated age, say age 65, their income will go on forever as long as they're alive. Typically the income percent is going to be between 4% and 5%.
As for the income base, the carriers have different ways of setting it. One approach is that every year a carrier could look at the account value on the participant's birth date. Whatever the highest account value is on their birth date between, say, age 55 and 65, would get locked in as the income base. For example, say a person has $100,000 when they are 64, but $90,000 when they turn 65 because the market moved. They would be guaranteed 5% times the $100,000 that they locked in previously.
A second design is a fixed annuity-type design. Think of it as a slice of an annuity that starts when they reach retirement age, and then they keep buying these little slices. Each time they buy a slice, the amount of that benefit is based on the interest rate at that point in time.
This gives participants a way to dollar-cost-average the interest rate environment over time. When they get there, they have a fixed annuity in their retirement, which typically will have a higher initial payout than a guaranteed lifetime withdrawal benefit. But the tradeoff will be that they'll give up access to the funds to get into that option.
There are also some asset-based solutions that aren't necessarily guaranteed for life, but they're designed to have an orderly disposition of assets. Under many scenarios they will last that person's lifetime. But the difference between an insured solution and an asset-based solution is the guarantee that an insurance company can provide for that level of income over the lifetime of the participant.
What should advisers and plan sponsors be wary of?
One of the biggest concerns right now is the portability of the plan and of the benefit. Let's say you're a plan sponsor and you elect the guaranteed lifetime income option of Carrier A and later you decide you don't like Carrier A for whatever reason - it could be because of the lifetime income option; it could just be because you don't like the service you get from Carrier A. You want to move your plan to Carrier B, including the guaranteed lifetime income option. There's a really good chance right now that you're not going to be able to transfer that and have the same level of guarantee move over from Recordkeeper A to Recordkeeper B.
That's a problem, because your participants have paid for this protection. And if they're in the money or their guarantees currently have intrinsic value and you move them over, then you're taking benefits away from them, and it puts you in a fairly tricky spot from a fiduciary standpoint. There's a lot of work going on in the industry to tackle this issue. But if you ask a plan sponsor who thought about it and decided not to elect it, it's likely that's a major reason why.
What type of employers are GLIOs best suited for?
The most likely type of company to elect this benefit today is going to be one that's fairly paternalistic - one that really cares about its employees, and wants to do everything in their power to help them through an orderly transition from being actively at work to supporting themselves in retirement with their financial capital. This is a way for them to help their employees with that transition.
A plan sponsor can choose a design that gives their employees access to their money in case they need it. Or they can choose a design where they don't have that access to the money, which would mean a higher initial benefit, but loss of that access and control. Either one could work for a plan sponsor. The hope is that GLIOs will help change the way participants think about their retirement savings as an income source instead of a lump sum.
What's the downside of GLIOs?
There are three items that come to mind. One of them we already talked about: portability. The second one is related to the fact that these products really didn't exist when they passed the Pension Protection Act. This means there's no safe harbor created for this specific option - even though it feels like there should be. Many folks feel that until there's a safe harbor out there to map people into this option, it's going to work very much like target-date funds did. Before that protection was there, plan sponsors were very reluctant to map money into that option.
And lastly, there's a certain level of education that's necessary so the participants use this benefit correctly. These benefits are designed so that participants will get, say, $5,000 of income a year forever. But the guaranteed lifetime withdrawal benefit design has flexibility in it. A participant can go and get more money, but if they choose to do that, they're going to undermine their guarantees. I'm not sure the level of protection exists to stop participants from making decisions that are going to be painful for them down the road.
Do you have any advice on how to begin the shopping process?
One good source of information is the Institutional Retirement Income Council. Their website, www.iricouncil.org, includes evaluation tools and product fact sheets. There's a list of some of the carriers who have products on the market. Right now there are five products listed. The IRIC's mission is to help educate plan sponsors and advisers on these products.
Any tips on comparing one carrier's product to another's?
It gets tricky comparing guaranteed lifetime option 1 versus option 2 versus option 3 from different carriers. It's not like benchmarking large-cap growth funds.
And you can't just look at the fees that are associated with them, because fees are associated with benefits, and those two are related. So it could be that Carrier A might charge more, but their benefit is richer than Carrier B's.
It's in the consultant's and the plan sponsor's best interest to understand the value of the benefits that they're paying for in each one of the solutions that they're looking at. They'd probably want to make sure that they understand and talk to their wholesalers or whoever their source of information is to really understand how a particular product works and what the typical payoffs might look like under different economic scenarios.
In the end, it's about what the participant's benefit is going to look like. So you could take a representative participant or a couple of people and look at what their benefit might look like under the different options. That would force the retirement consultant to understand exactly how this benefit works. It would also help them explain it to the plan sponsor - to break it down into something that's much more tangible to look at.
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